Michael Wacha and the Padres Swap Risks, Contractually Speaking

Michael Wacha is a boring free agent. Don’t take it personally, Padres fans or Cardinals fans from his electrifying 2013 run; he’s still a very competent pitcher who delivered a classic playoff performance as a rookie. At this point in his career, though, he’s a competent rotation filler, a fourth or fifth starter who offers bulk innings at a reasonable rate. As Michael Baumann already detailed, that suits San Diego just fine.

Naturally, since this is the Padres, that bread-and-butter signing comes with a wildly complicated contract structure. It’s a one-year, $7.5 million deal, or a three-year, $39.5 million deal, or a four-year, $26 million deal with innings pitched bonuses — or even some fraction thereof. No word on whether it’s also Optimus Prime, but it’s certainly a transformer:

Wacha deal with Padres:
Four years, $26M

Signing bonus $3.5M

2023 $4M

Club options, must be picked up simultaneously
2024 $16M
2025 $16M
 
If club options declined
2024 player option $6.5M
2025 player option $6M
2026 player option $6M
All exercised one at a time.

— Ken Rosenthal (@Ken_Rosenthal) February 16, 2023

One thing is for sure: the Padres aren’t afraid of a little complexity. They signed Nick Martinez to a similar deal earlier in the offseason. These nested and mutually exclusive options are hard to parse, but I think they’re an interesting idea, so let’s talk through the different ways this deal could go and what it means for both Wacha and the Padres.

The only thing we know for certain is this: Wacha will make $7.5 million this year. He’s also going to count for $6.5 million against the competitive balance tax, pending incentives. That math is easy enough: player options count toward CBT calculations, but club options don’t, so that $26 million over four years works out to $6.5 million per year. That upfront tax discount — Wacha counts less against the Padres’ tax number than they’ll pay him — is useful for a team approaching $40 million dollars above the tax line, a barrier that comes with additional monetary and draft pick penalties.

After that, things get tricky, probabilistically speaking. The Padres have the right to exercise a two-year club option worth $16 million per year. If they do that, Wacha will be a Padre for 2024 and ’25, counting $16 million against the CBT both years. That will also remove any incentives from the remainder of the deal; in 2023 and in any player option years, Wacha can make up to $2 million extra by starting 30 games.

If the Padres decline that option — a likely outcome — then Wacha’s contract becomes a string of one-year player options. He can make $6.5 million in 2024, $6 million in ’25, and $6 million in ’26, with the same incentives for games started. He can also make $6.5 million in 2024 and then opt out, or play the ’24 and ’25 seasons on this contract and opt out. He could also opt out after 2023, which would make the contract a one-year deal.

The Padres’ side of this deal might seem like a frivolous club option. Spending $16 million on a fifth starter? In this economy?! But while they are certainly unlikely to exercise either Wacha’s or Martinez’s club options, it’s worth considering why they’re attached, so I did a little math to ballpark the likelihood of their being exercised.

Why would the Padres want Wacha for two years and $32 million next offseason? It’s simple: if they think he’d fetch more than that on the open market, they can exercise their option and get him at a below-market rate. If a Freaky Friday body swap (or a 13 Going on 30 one if you grew up around the same time as me) turned Wacha into Sandy Alcantara or Corbin Burnes, the Padres would have an ace at mid-tier starter prices.

Obviously, that body swap isn’t happening. Wacha isn’t an ace and really never has been. But you don’t need to be one of the best pitchers in baseball to command a $32 million contract over two years. That’s Jameson Taillon (for fewer years), Nathan Eovaldi, or Zach Eflin money. Those are competent starters, but they’re hardly the best in the business. Steamer and ZiPS think that each of those three will be roughly league average in 2023, with ERA and FIP figures roughly half a run better than Wacha.

The question, then, is how likely Wacha is to turn into a starter whose projections look like Eovaldi or Taillon. That’s unknowable, but I decided to come up with an approximation. I downloaded a bunch of years of Steamer pitching projections and adjusted them all for projected league run scoring environment. Then I linked them up into year-pairs. I found a sample of 415 pitchers who were at least 28 in year one and received starter projections in two consecutive years.

In 7% of those paired seasons, a player’s projection declined by half a run of ERA or more from one season to the next. If we restrict that to pitchers who were projected to be at least as good as Wacha in their first year, that number falls to 5%. That gives you a ballpark idea of how likely Wacha is to improve to the point where San Diego’s club options are roughly what he’d receive on the open market.

Teams don’t award contracts based on Steamer projections, but at their core, all contracts are given out based on projections of future production. Since club options are just that — the right but not obligation to enter into a future contract — I find it useful to know how likely it is that Wacha’s projected level of production could change enough to merit the $16 million AAV the Padres could assign him should they so choose.

Even if Wacha improves that much, it’s no certainty that the Padres would exercise his option. To make it a no-brainer for the team, he’d have to improve by even more. Of pitchers who roughly fit Wacha’s archetype (solid veterans), 1.5% saw their ERA projections improve by at least 0.75 runs from one year to the next. That would put him in borderline All-Star territory, and $16 million for that level of starter is a good deal. It’s not all that likely — 1.5% is very low — but it’s certainly not impossible. To be clear, they don’t need him to be a slam dunk

Also worth considering: Wacha is a hard pitcher to project. He’s changed his pitching plan quite a bit in recent years, adding a sinker and emphasizing his cutter. He’s coming off of his best season since 2017, but that’s still worse than his career numbers, because he used to be really dang good. He might seem like a meat-and-potatoes starter, but there’s substantial uncertainty in his forecast nonetheless.

Okay, so the Padres are somewhere between 2–5% likely to exercise Wacha’s club option, and they’ll do so only if he improves by quite a bit. What about the other side of the deal, Wacha’s string of player options?

This one is more complicated, because a string of consecutive options means that each option affects the value of the subsequent ones. If you turn down a player option for 2024, your 2025 player option becomes worthless, naturally enough. There’s a lot of value in keeping those options open. Say, for instance, that Wacha thought he could earn $8 million on the open market or stay with the Padres for $6.5 million. Eight is more than 6.5, so you might think he’d decline his player option and hit the market, but it’s not so simple. By accepting the player option, he’s also guaranteeing himself the chance to accept another option next year. That’s particularly valuable for pitchers, who might get injured and face the prospect of a completely missed season. If I were Wacha, I’d want to expect a one-year contract of $10 million or so to decline the first of these player options, and then a declining amount in each year thereafter.

How likely is Wacha to reach that level? Using my same Steamer dataset, I took a stab at estimating it; that level of performance would require an ERA projection improvement on the order of 0.2 runs. That would put Wacha in something more like Corey Kluber territory, or perhaps Wade Miley/Sean Manaea range depending on how you think of those two. By my math, 20% of Wacha-like pitchers improved their projection that much from one year to the next in my sample. In other words, it could totally happen, even if it’s not likely.

Put all those numbers together, and we can come to a forecast for where, and under what contract, Wacha might play next year. Let’s ballpark this deal at an 80% chance that Wacha picks up next year’s option, a 3% chance that the Padres pick up the club option, and a 17% chance that he hits free agency again after the season. That ignores any accounting for the changing value of wins, but that’s likely to be a small change for someone in Wacha’s position as back-of-rotation filler.

The most important question in all of this: what are we supposed to call these complex contracts? I have a suggestion that I lifted straight from a finance textbook that I’d like to submit, though I will admit it’s pretty technical. There’s a particular options strategy known as a “risk reversal” that roughly mirrors this structure. A risk reversal involves one counterparty buying an option on a stock (or asset) price increasing and selling an option on that price decreasing. That’s essentially what’s going on here. If Wacha ends up good enough that he’s worth $16 million or more per year, the Padres can pay him $16 million and retain him. If he turned into peak Pedro Martinez tomorrow, they’d still only have to pay him $16 million next year. In that sense, they own an option on his performance level increasing. On the other side of things, if Wacha gets hurt or his performance declines such that he’d expect a tiny contract next year, he can instead hold the team to a $6.5 million deal. In other words, they’re agreeing to be on the hook for next year even if Wacha doesn’t think he could get that $6.5 million on the open market.

In that sense, the two are swapping risks. Wacha is giving the Padres some upside protection. The Padres are giving him some downside protection. That’s a textbook risk reversal. Now, if we can just get Scott Boras and the other jargon gatekeepers of baseball to accept my term. Michael Wacha signed a risk reversal contract with the Padres; you heard it here first, literally.